nep-cba New Economics Papers
on Central Banking
Issue of 2007‒06‒30
forty-one papers chosen by
Alexander Mihailov
University of Reading

  1. Liquidity Traps, Learning and Stagnation By Evans, George W; Guse, Eran; Honkapohja, Seppo
  2. Is the Euro Sustainable? By Mike Wickens
  3. Inflation Dynamics and Trade Openness By Aron, Janine; Muellbauer, John
  4. Gold Prices and Inflation By Greg Tkacz
  5. Cross-Country Estimates of the Degree of Fiscal Dominance and Central Bank Independence By Carlos de Resende
  6. Debt and the effects of fiscal policy By Carlo Favero; Francesco Giavazzi
  7. Debt-Ridden Equilibria - A Simple Theory of Great Depressions - By KOBAYASHI Keiichiro; INABA Masaru (RIETI)
  8. Measuring the Fiscal Stance By Vito Polito; Mike Wickens
  9. Uncertainty about the Persistence of Cost-Push Shocks and the Optimal Reaction of the Monetary Authority. By Arnulfo Rodríguez; Fidel González; Jesús R. González García
  10. The Dynamic Welfare Cost of Stagnation: An Alternative Measure to the Lucas-Obstfeld Model By Tatsuyoshi Miyakoshi; Masakatsu Okubo; Junji Shimada
  11. Productivity Growth, Transparency, and Monetary Policy By Ichiro Muto
  12. Disagreement and Biases in Inflation Expectations By Carlos Capistrán; Allan Timmermann
  13. Forecast Combination with Entry and Exit of Experts By Carlos Capistrán; Allan Timmermann
  14. Bias in Federal Reserve Inflation Forecasts: Is the Federal Reserve Irrational or Just Cautious? By Carlos Capistrán
  15. Bayesian VARs with Large Panels By Banbura, Marta; Giannone, Domenico; Reichlin, Lucrezia
  16. Optimal Fiscal Policy in a Small Open Economy with Incomplete Markets and Interest Rate Shocks By Josué Fernando Cortés Espada
  17. Coordination des Politiques Budgétaires dans une Union Monétaire Hétérogène: Modélisation et Application à l'UEM By Christophe Schalck
  18. Fiscal Policy and Default Risk in Emerging Markets. By Gabriel Cuadra; Horacio Sapriza
  19. Optimal Fiscal Policy in a Small Open Economy and the Structure of International Financial Markets. By Josué Fernando Cortés Espada
  20. The yield spread and GDP growth - Time Varying Leading Properties and the Role of Monetary Policy By Hogrefe, Jens
  21. Optimising Indexation Arrangements under Calvo Contracts and their Implications for Monetary Policy By Le, Vo Phuong Mai; Minford, Patrick
  22. The Asymmetric Outcome of Sticky Price Models By Carles Ibanez
  23. Optimal Monetary Policy Under Inflation Targeting: Is Zero the Optimal Perception of Inflation Inertia? By Páez-Farrell, Juan
  24. Dynamic Aspects of Productivity Spillovers, Terms of Trade and The "Home Market Effects" By Ippei Fujiwara; nd Naohisa Hirakata
  25. Dynamic Panel Probit Models for Current Account Reversals and their Efficient Estimation By Liesenfeld, Roman; Moura, Guilherme V; Richard, Jean-François
  26. Employment, Hours per Worker and the Business Cycle. By Emilio Fernandez-Corugedo
  27. Choquet OK? By John D Hey; Gianna Lotito; Anna Maffioletti
  28. Unbounded exchange economies with satiation: how far can we go? By Victor Filipe Martins-da-Rocha; Paulo Klinger Monteiro
  29. A Thermodynamic Theory of Economics By John Bryant
  30. Cooperation in the Cockpit: Evidence of Reciprocity and Trust among Swiss Air Force Pilots By Beat Hedinger; Lorenz Goette
  31. Inflation Dynamics in Latin America By Carlos Capistrán; Manuel Ramos Francia
  32. Long-Run Inflation-Unemployment Dynamics: The Spanish Phillips Curve and Economic Policy By Marika Karanassou; Hector Sala; Dennis Snower
  33. Monetary Policy and Swedish Unemployment Fluctuations By Alexius, Annika; Holmlund, Bertil
  34. Capital Controls and Foreign Investor Subsidies Implicit in South Africa's Dual Exchange Rate System By Huizinga, Harry; Schaling, Eric; van der Windt, Peter C
  35. The monetary transmission mechanism in Turkey : New developments By Erdem Basci; Ozgur Ozel; Cagri Sarikaya
  36. Interest Rate Pass-Through in Turkey By Halil Ibrahim Aydin
  37. Recursive Thick Modeling and the Choice of Monetary Policy in Mexico. By Arnulfo Rodríguez; Pedro N. Rodríguez
  38. Time Series Approach to Test a Change in Inflation Persistence: The Mexican Experience. By Manuel Ramos Francia; Daniel Chiquiar; Antonio E. Noriega
  39. Inflation Dynamics in Mexico: A Characterization Using the New Phillips Curve By Manuel Ramos Francia; Alberto Torres García
  40. Estimating the Size of Underground Economy in Romania By Albu, Lucian Liviu
  41. Karl Brunner il monetarista By Michele FRATIANNI

  1. By: Evans, George W; Guse, Eran; Honkapohja, Seppo
    Abstract: We examine global economic dynamics under learning in a New Keynesian model in which the interest-rate rule is subject to the zero lower bound. Under normal monetary and fiscal policy, the intended steady state is locally but not globally stable. Large pessimistic shocks to expectations can lead to deflationary spirals with falling prices and falling output. To avoid this outcome we recommend augmenting normal policies with aggressive monetary and fiscal policy that guarantee a lower bound on inflation. In contrast, policies geared toward ensuring an output lower bound are insufficient for avoiding deflationary spirals.
    Keywords: adaptive learning; fiscal policy; indeterminacy; monetary policy; zero interest rate lower bound
    JEL: E52 E58 E63
    Date: 2007–06
  2. By: Mike Wickens
    Abstract: It is widely recognised that the "one-size-fits-all" monetary policy of the euro-zone is a potential problem. How much of a problem has not been much investigated. It is argued in this paper that it may result in the euro not being sustainable in the longer term without drastic changes to other aspects of the EU and, in particular, to fiscal policy. The problem is not the fault of the ECB, but is due to having a single nominal interest rate. As a result, the evidence reveals that national price levels are diverging over time which is leading to a permanent and unsustainable loss of competitiveness. A formal theory of in.ation in the euro-zone based on an open-economy version of the New Keynesian model is used to analyse the problem. Although the euro system has automatic stabilising mechanisms arising from the changes in competitiveness and from absorbtion effects, these are shown to be not strong enough. The model is then modified to allow for fiscal transfers between countries and the size of the transfers required to produce a euro that may be sustainable are derived. It is shown that, in effect, this is an inflation tax, requiring high inflation countries to make transfers to low inflation countries as often happens within a single country in the form of unemployed benefits to low activity regions. Ultimately, the choice may lie between closer political union and a break-up of the euro-zone.
    Keywords: euro, ECB, monetary policy, inflation
    JEL: E5 E6
    Date: 2007–06
  3. By: Aron, Janine; Muellbauer, John
    Abstract: It is difficult to obtain reliable measures of evolving openness to trade, despite its relevance to models of growth, inflation and exchange rates. Our innovative technique measures trade openness encompassing both observable trade policy (tariffs and surcharges) and unobservable trade policy (quotas and other non-tariff barriers), and such factors as capital controls, sanctions and dual exchange rates (often used in composite trade measures). The share of manufactured imports in home demand for manufactured goods is estimated in STAMP (Koopman et al., 2000) using measured trade policy and controlling for fluctuations in domestic demand, relative prices of imports and the exchange rate. The unmeasured trade policy component is captured by a smooth non-linear stochastic trend. The two elements of openness, the stochastic trend and the rates of tariffs and surcharges, are included in a model of wholesale price inflation in South Africa. The evidence suggests that increased openness has significantly reduced the mean inflation rate and has reduced the exchange rate pass-through into wholesale prices.
    Keywords: inflation dynamics; modelling inflation; trade openness
    JEL: C22 E31 F13 F41
    Date: 2007–06
  4. By: Greg Tkacz
    Abstract: Using data for 14 countries over the 1994 to 2005 period, we assess the leading indicator properties of gold at horizons ranging from 6 to 24 months. We find that gold contains significant information for future inflation for several countries, especially for those that have adopted formal inflation targets. This finding may arise from the manner in which inflation expectations are formed in these countries, which may result in more rapidly mean-reverting inflation rates. Compared to other inflation indicators for Canada, gold remains statistically significant when combined with variables such as the output gap or the growth rate of a broad monetary aggregate.
    Keywords: Inflation and prices; Exchange rates
    JEL: E31 E44
    Date: 2007
  5. By: Carlos de Resende
    Abstract: This paper studies the interdependence between fiscal and monetary policies, and their joint role in the determination of the price level ...
    Keywords: Central bank research; Fiscal policy; Inflation: costs and benefits
    JEL: E31 E42 E50 E63
    Date: 2007
  6. By: Carlo Favero; Francesco Giavazzi
    Abstract: A fiscal shock due to a shift in taxes or in government spending will, at some point in time, constrain the future path of taxes and spending, since the government’s intertemporal budget constraint will eventually have to be met. This simple fact is surprisingly overlooked in analyses of the effects of fiscal policy based on vector autoregressive models. We study the effects of fiscal shocks, keeping track of the debt dynamics that arise following a fiscal shock and allowing for the possibility that taxes, spending, and interest rates might respond to the level of the debt as it evolves over time. We show that the absence of a debt feedback effect can result in incorrect estimates of the dynamic effects of fiscal shocks. In particular, omitting an effect of fiscal shocks on long-term interest rates—a frequent finding in studies that omit a debt feedback—can be explained by the misspecification of these fiscal shocks. Using data for the U.S. economy and two alternative identification assumptions, we reconsider the effects of fiscal policy shocks, correcting for these shortcomings. We close the paper by observing that the methodology described by taking into account the stock-flow relationship between debt and fiscal variables to analyze the impact of fiscal shocks could also be applied to other dynamic models that include similar identities. The inclusion of capital as a slow-moving variable in the study of the relationship between productivity shocks and hours worked is one example.
    Keywords: Debt ; Fiscal policy
    Date: 2007
  7. By: KOBAYASHI Keiichiro; INABA Masaru (RIETI)
    Abstract: The US Great Depression and Japan's lost decade in the 1990s are both characterized as persistent stagnations of economies with debt-ridden corporate sectors subsequent to asset-price collapses. We propose a simple model, in which increases in corporate debt (and/or fluctuations in expectations about the future state of the economy) can account for these episodes. Key ingredients are the assumptions that firms are subject to collateral constraint on liquidity for financing the inputs, and that the firms can hold other firms' stocks as their assets and use them as the collateral. Collateral constraint on inputs interlinks the financial market inefficiency with the factor market inefficiencies; and that the corporate stocks are used as collateral generates an externality of self-reference in stock prices and production, that is, higher stock prices loosen the collateral constraint and lead to higher efficiencies in production, which in turn justify the higher stock prices. It is shown that there exists a continuum of steady-state equilibria indexed by the amount of debt that the firms owe to the consumers: A steady state with a larger debt can be called a debt-ridden equilibrium, since it has more inefficient factor markets, produces less output, and is characterized by lower stock prices. The model provides the policy implication that debt reduction in the corporate sector at the expense of consumers (or taxpayers) may be welfare-improving when the firms are debt-ridden.
    Date: 2007–06
  8. By: Vito Polito; Mike Wickens
    Abstract: In this paper we propose an index of the fiscal stance suitable for practical use in short-term policy making. The index is based on a comparison of a target level of the debt-GDP ratio for a given finite horizon with a forecast of the debt-GDP ratio based on a VAR formed from the government budget constraint. This approach to measuring the fiscal stance is different from the literature on fiscal sustainability. We emphasise the importance of having a forward-looking measure of the fiscal stance for the immediate future rather than a test for fiscal sustainability that is backward-looking, or based just on past behaviour which may not be closely related to the current fiscal position. We use our methodology to construct a time series of the indices of the fiscal stances of the US, the UK and Germany over the last 25 or more years. We find that both the US and UK fiscal stances have deteriorated considerably since 2000 and Germany's has been steadily deteriorating since unification in 1989, and worsened again on joining EMU.
    Keywords: Budget deficits, government debt, fiscal sustainability, VAR analysis
    JEL: C22 C53 E62 E63
    Date: 2007–06
  9. By: Arnulfo Rodríguez; Fidel González; Jesús R. González García
    Abstract: In this paper we formalize the uncertainty about the persistence of cost-push shocks using an open economy optimal control model with Markov regime-switching and robust control. The latter is used in only one of the regimes producing relatively more persistent cost-push shocks in that regime. Conditional on being in the regime with relatively less persistence, we obtain two main results: a) underestimating the probability of switching to the regime with relatively more persistent cost-push shocks causes higher welfare losses than its overestimation; and b) the welfare losses associated with either underestimation or overestimation of such probability increase with the size of the penalty on inflation deviations from its target. Keywords: Model uncertainty, Robustness, Markov regime-switching, Monetary policy, Inflation targeting.
    Keywords: Model uncertainty, Robustness, Markov regime-switching, Monetary policy, Inflation targeting
    JEL: C61 E61
    Date: 2007–03
  10. By: Tatsuyoshi Miyakoshi (Osaka School of International Public Policy (OSIPP), Osaka University); Masakatsu Okubo (Graduate School of Systems and Information Engineering,University of Tsukuba); Junji Shimada (School of Management, Aoyama Gakuin University)
    Abstract: This paper proposes an alternative measure to the Lucas-Obstfeld model to analyze the welfare costs of stagnation, and provides a practical illustration of both the Lucas-Obstfeld model and the alternative model. Compared with the Lucas-Obstfeld model, the alternative model can evaluate: (i) whether the policy was implemented in a timely fashion, (ii) whether the policy cost was expensive compared with the cost of stagnation, and (iii) whether the policy implemented was effective or whether an additional policy is required.
    Keywords: Lucas model; dynamic welfare cost; time-varying parameters
    JEL: C32 C50 E32 E20
    Date: 2007–06
  11. By: Ichiro Muto (Institute for Monetary and Economic Studies, Bank of Japan (E-mail:
    Abstract: In this study, we investigate how central bank transparency about views on future productivity growth influences social welfare. To this end, we use a New Keynesian framework in which both the central bank and private agents are engaged in filtering problems regarding the persistence of productivity growth. Since the central bank and private agents do not know the true value of the signal-to-noise ratio, the gain parameters used in the filtering problems can be heterogeneous. If the central bank is not transparent, private agents must conjecture the central bank's estimate of the efficient level of the real interest rate. Under this setup, we show that central bank transparency does not necessarily improve social welfare. It can potentially yield a welfare loss, depending on (i) the gain parameters used by the central bank and private agents and (ii) private agents' conjecture on the gain parameter used by the central bank. If the central bank is uncertain about the combination of these gain parameters, it is sensible for the central bank to respond strongly to the variations of the inflation rate, because the misperceptions about these parameters become the source of demand shock.
    Keywords: New Keynesian Model, Monetary Policy, Transparency, Productivity Growth, Learning
    JEL: E52
    Date: 2007–06
  12. By: Carlos Capistrán; Allan Timmermann
    Abstract: Recent empirical work documents substantial disagreement in inflation expectations obtained from survey data. Furthermore, the extent of such disagreement varies systematically over time in a way that reflects the level and variance of current inflation. This paper offers a simple explanation for these facts based on asymmetries in the forecaster's costs of over- and under-predicting inflation. Our model implies biased forecasts with positive serial correlation in forecast errors and a cross-sectional dispersion that rises with the level and the variance of the inflation rate. It also implies that biases in forecaster's ranks should be preserved over time and that forecast errors at different horizons can be predicted through the spread between the short- and long-term variance of inflation. We find empirically that these patterns are present in inflation forecasts from the Survey of Professional Forecasters.
    Keywords: Inflation, Expectations, Forecasting, Asymmetric loss, Inflation dynamics
    JEL: C53 E31 E37
    Date: 2006–06
  13. By: Carlos Capistrán; Allan Timmermann
    Abstract: Combination of forecasts from survey data is complicated by the frequent entry and exit in real time of individual forecasters which renders conventional least squares regression approaches to estimation of the combination weights infeasible. We explore the consequences of this for a variety of forecast combination methods in common use and propose a new method that projects actual outcomes on the equal-weighted forecast as a means of adjusting for biases and noise in the underlying forecasts. Through simulations and an empirical application to inflation forecasts we show that the entry and exit of individual forecasters can have a large effect on the real time performance of conventional forecast combination methods. We also find that the proposed projection on the equal-weighted forecast works well in practice.
    Keywords: Forecasting, forecast combination, inflation, surveys
    JEL: C53 E37
    Date: 2006–09
  14. By: Carlos Capistrán
    Abstract: Inflation forecasts of the Federal Reserve seem to have systematically under-predicted inflation from the fourth quarter of 1968 until Volcker's appointment as Chairman, and to systematically over-predict it afterwards until the second quarter of 1998. Furthermore, under quadratic loss, commercial forecasts seem to have information not contained in those forecasts. To investigate the cause of this apparent irrationality, this paper recovers the loss function implied by Federal Reserve's inflation forecasts. The results suggest that the cost of having inflation above an implicit time-varying target was larger than the cost of having inflation below it for the period since Volcker, and that the opposite was true for the pre-Volcker era. Once these asymmetries are taken into account, the Federal Reserve's inflation forecasts are found to be rational.
    Keywords: Inflation forecasts, Forecast evaluation, Monetary policy
    JEL: C53 E52
    Date: 2006–12
  15. By: Banbura, Marta; Giannone, Domenico; Reichlin, Lucrezia
    Abstract: This paper assesses the performance of Bayesian Vector Autoregression (BVAR) for models of different size. We consider standard specifications in the macroeconomic literature based on, respectively, three and eight variables and compare results with those obtained by larger models containing twenty or over one hundred conjunctural indicators. We first study forecasting accuracy and then perform a structural exercise focused on the effect of a monetary policy shock on the macroeconomy. Results show that BVARs estimated on the basis of hundred variables perform well in forecasting and are suitable for structural analysis.
    Keywords: Bayesian VAR; forecasting; large cross-sections; monetary VAR
    JEL: C11 C13 C33 C53
    Date: 2007–06
  16. By: Josué Fernando Cortés Espada
    Abstract: This paper studies optimal fiscal policy in a small open economy model under incomplete financial markets, where interest rates, government spending and productivity are stochastic and taxes are distortionary. The contributions of the paper are twofold. First, I solve the Ramsey problem and characterize the properties of the optimal fiscal policy. Second, I show that the optimal fiscal policy consists in smoothing tax distortions over time. The income tax rate, and the public debt are very persistent irrespective of the degree of autocorrelation of the shocks generating aggregate fluctuations. The government finances an increase in government spending or a decrease in the tax base partly by increasing debt and partly by increasing the tax rate.
    Keywords: optimal fiscal policy, taxation, incomplete markets, debt policy
    JEL: E60 F34 F41 H21
    Date: 2006–09
  17. By: Christophe Schalck
    Abstract: This paper studies coordination of fiscal policies in a monetary union in terms of stabilization performance. We use a static model of closed monetary union and numerical simulations in which macroeconomic heterogeneities are introduced. Results show that the coordination is an efficient tool to increase EMU stabilization, even though coordination gains greatly varies according to macroeconomic heterogeneities. We then identify coalitions and free riding behaviours.
    JEL: E61 E63 F42
    Date: 2007
  18. By: Gabriel Cuadra; Horacio Sapriza
    Abstract: Emerging economies usually experience procyclical public expenditures, tax rates and private consumption, countercyclical default risk, interest rate spreads and current account and higher volatility in consumption than in output. In this article we develop a dynamic stochastic equilibrium model of a small open economy with endogenous fiscal policy, endogenous default risk and country interest rate spreads in an incomplete credit markets framework that rationalizes these empirical findings.
    Keywords: Procyclical fiscal policy, Sovereign default
    JEL: F34 F41
    Date: 2007–03
  19. By: Josué Fernando Cortés Espada
    Abstract: This paper characterizes the behavior of debt and tax rates in a small open economy under both complete and incomplete markets. First, I show hat when the government follows an optimal fiscal policy and agents have access to complete markets, the value of the government’s debt portfolio is negatively correlated with government spending, and positively correlated with productivity and output, while output, labor, consumption and the tax rate are uncorrelated with government spending shocks. The stochastic processes followed by these variables inherit the serial-correlation properties of the stochastic process of the productivity shock. Second, I show that if agents can only buy and sell one-period risk-free bonds, public debt shows more persistence than other variables, and it is negatively correlated with productivity and output, and positively correlated with government spending. Moreover, the tax rate is positively correlated with government spending, while consumption is negatively correlated.
    Keywords: Complete markets, Incomplete markets, Optimal fiscal policy
    JEL: E60 F34 F41 G15 H21
    Date: 2007–03
  20. By: Hogrefe, Jens
    Abstract: The yield spread is a well documented leading indicator of GDP growth. Estrella (2005) proposes a model to explain this relationship. Within the model, the leading properties of the yield spread are determined by the monetary policy. Accordingly, changes of the leading properties that have been reported in many studies should correspond to changes of the monetary policy. This paper analyzes whether and what form of time variation of the leading properties can be found in four major industrialized countries (France, Germany, the UK and the US). The results are connected with time varying behavior of the monetary policy by modeling a joint state dependency of the leading properties and the reaction parameters of the monetary policy. Time variation of the leading properties seem to exist in all countries under consideration. For the US and Germany they are best modeled as a structural break while France and the UK exhibit recurring phases. Evidence for a link between the time variations of the monetary policy and the leading properties can be found. However, a clear determination of the leading properties by the monetary policy cannot be confirmed.
    Keywords: leading indicator, yield spread, GDP growth, monetary policy, Markov-Switching
    JEL: C32 E37 E43 E52
    Date: 2007
  21. By: Le, Vo Phuong Mai; Minford, Patrick
    Abstract: This paper investigates optimal indexation in the New Keynesian model, when the indexation choice includes the possibility of partial indexation and of varying weights on rational and lagged indexation. It finds that the Calvo contract adjusted for rationally expected indexation under both inflation and price level targeting regimes delivers the highest expected welfare under both restricted and full current information. Rational indexation eliminates the effectiveness of monetary policy on welfare when there is only price-level targeting under the current micro information. If including both wage setting and full current information, monetary policy is effective; and a price-level targeting rule delivers the highest benefits because it minimises the size of shocks to prices and thus dispersion. However, even less than full rational indexation ensures that there is very little nominal rigidity in the adapted world of Calvo contracts.
    Keywords: Calvo contracts; inflation target; New Keynesian model; optimal indexation; price-level target; rational expectation
    JEL: E50 E52
    Date: 2007–06
  22. By: Carles Ibanez
    Abstract: Empirical evidence shows demand shocks tend to have an asymmetric effect on output: it falls by a larger amount with a contraction than it rises with an expansion. We argue that introducing nominal rigidities in a framework where agents maximise their welfare can yield such an asymmetric outcome. We show that this is the case in the Sticky Prices framework, where each period an exogenously set fraction of firms fails to adjust prices. While the solution method commonly adopted by this literature, the log-linearization, delivers a perfectly symmetric response, methods that respect the original struc- ture of the model yield an asymmetric one. We show that when products are good substitutes to each other and labour supply is inelastic, the model implies that the response of output is larger with monetary contractions than with ex- pansions, even when the shock is small. We identify the origin of the asymmetry in that when not all firms adjust prices, some goods are cheaper than others and so more heavily consumed. With a positive shock, these goods are produced by the firms that fail to adjust, so that real income is not very much affected. But with a negative shock, they are produced by firms that adjust prices, causing a large swing in real income.
    Keywords: staggered price setting, asymmetric response to shocks, monetary business cycles
    JEL: E31 E32
    Date: 2007–06
  23. By: Páez-Farrell, Juan (Cardiff Business School)
    Abstract: Recent research has suggested that in deriving optimal policy under discretion, policymakers should react as if there were no structural inflation persistence in order to improve welfare. This paper considers whether such a strong result extends to an inflation targeting central bank with a more general Phillips curve formulation. The findings indicate that if anything, a central banker that assumes a high degree of inflation inertia is often preferable.
    Keywords: optimal monetary policy; discretion; uncertainty; inflation persistence
    JEL: E31 E52 E61 E63
    Date: 2007–06
  24. By: Ippei Fujiwara (Institute for Monetary and Economic Studies, Bank of Japan (E-mail:; nd Naohisa Hirakata (Financial Systems and Bank Examination Department, Bank of Japan (E-mail:
    Abstract: In this paper, we first set up a model that incorporates firm dynamics into the Global Economy Model (henceforth, GEM) developed by the IMF Research Department. Then, we show how the economic variables respond to the shocks that shift the production frontier outwards, namely productivity gains in manufacturing, efficiency gains in creating new firms, and an increase in the labor force. Contrary to the model used in previous research on the same topic by Corsetti, Martin and Pesenti (2007, henceforth, CMP), our model contains rich and realistic dynamics embedded in the GEM such as a time-to-build constraint for firm dynamics, and nominal price and wage stickiness. We show that (1) the analytical results of CMP are dependent on the elasticity of substitution between domestic and foreign goods, (2) short-run responses could be different from those in CMP because of the existence of price and wage stickiness, and (3) persistence of shocks also alters the direction of responses via the wealth effect. These results suggest that it is of great importance for policy institutions to acknowledge the dynamic aspects of productivity spillovers by simulating a model with richer dynamics like the GEM.
    Keywords: New Keynesian Model, Monetary Policy, Transparency, Productivity Growth, Learning
    JEL: E52
    Date: 2007–06
  25. By: Liesenfeld, Roman; Moura, Guilherme V; Richard, Jean-François
    Abstract: We use panel probit models with unobserved heterogeneity and serially correlated errors in order to analyze the determinants and the dynamics of current-account reversals for a panel of developing and emerging countries. The likelihood evaluation of these models requires high-dimensional integration for which we use a generic procedure known as Efficient Importance Sampling (EIS). Our empirical results suggest that current account balance, terms of trades, foreign reserves and concessional debt are important determinants of the probability of current-account reversal. Furthermore we find under all specifications evidence for serially correlated error components and weak evidence for state dependence.
    Keywords: Panel data, Dynamic discrete choice, Current account reversals, Importance Sampling, Monte Carlo integration, State dependence
    JEL: C15 C23 C25 F32
    Date: 2007
  26. By: Emilio Fernandez-Corugedo
    Abstract: We examine the impact that technology shocks have in a trivariate VAR that includes productivity, hours worked per person and the employment ratio. These last two variables have trends that make them non-stationary. There are three results of interest. First, a technology shock reduces both hours and employment if those two variables are specified in first differences, with the response of employment being stronger than the response of hours. Second, a technology shock increases both hours and employment, when those two variables are specified in levels, although in this case the response of hours worked per person is stronger. Third, considering the possibility of changes in the trend growth rate of productivity reverses the results for the VARs with data in levels only. We also present a real business cycle model capable of replicating some of the results for hours and employment.
    Keywords: Business cycles, Employment, Hours worked, Technology shocks
    JEL: E32
    Date: 2007–01
  27. By: John D Hey; Gianna Lotito; Anna Maffioletti
    Abstract: There is a large theoretical literature in both economics and psychology on decision making under ambiguity (as distinct from risk) and many preference functionals proposed in this literature for describing behaviour in such contexts. However, the empirical literature is scarce and largely confined to testing between various proposed functionals. Using a new design, in which we create genuine ambiguity in the laboratory and can control the amount of ambiguity, we generate data which enables us to estimate several of the proposed preference functionals. In particular, we fit Subjective Expected Utility, Prospect Theory, Choquet Expected Utility, Maximin, Maximax, and Minimum Regret preference functionals, and examine how the fit changes when we vary the ambiguity. We find that the Choquet formulation performs best overall, though it is clear that different decision makers have different functionals. We also identify new decision rules which are not explicitly modelled in the literature.
    Keywords: Ambiguity, Subjective Expected Utility, Prospect Theory, Choquet Expected Utility, Decision Making, Maximin, Maximax, Minimum Regret, Bingo Blower
    JEL: D81
    Date: 2007–06
  28. By: Victor Filipe Martins-da-Rocha; Paulo Klinger Monteiro (EPGE/FGV)
    Date: 2007–06
  29. By: John Bryant (Vocat International)
    Abstract: An analogy between thermodynamic and economic theories and processes is developed further, following a previous paper published by the author in 1982. Economic equivalents are set out concerning the ideal gas equation, the gas constant, pressure, temperature, entropy, work done, specific heat and the 1st and 2nd Laws of Thermodynamics. The law of diminishing marginal utility was derived from thermodynamic first principles. Conditions are set out concerning the relationship of economic processes to entropic gain. A link between the Le Chatelier principle and economic processes is developed, culminating in a derivation of an equation similar in format to that of Cobb Douglas production function, but with an equilibrium constant and a disequilibrium function added to it. A trade cycle is constructed, utilising thermodynamic processes, and equations are derived for cycle efficiency, growth and entropy gain. A thermodynamic model of a money system is set out, and an attempt is made to relate interest rates, the rate of return, money demand and the velocity of circulation to entropy gain. Aspects concerning the measurement of economic value in thermodynamic terms are discussed.
    Keywords: Thermodynamics, economics, Le Chatelier, entropy, utility, money, equilibrium, value, energy
    JEL: A1 C02 C68 D5 E O1
    Date: 2007–04
  30. By: Beat Hedinger (Institute for Strategy and Business Economics, University of Zurich); Lorenz Goette (Economic Research, Federal Reserve Bank of Boston)
    Abstract: Cooperation between workers is important for firms. Cooperation can be maintained through positive or negative reciprocity between workers. In an environment where cooperation yields high efficiency gains negative reciprocity may, however, result in high costs for firms. Therefore positive reciprocity should be prevailing in these environments. To test this assumption we conduct experiments with Swiss Air Force pilots and a student reference group. We find that pilots’ cooperation is based on stronger positive reciprocal behaviour. We conclude that Swiss Air Force pilots maintain team-work with high levels of positive reciprocity, regardless of the identity of their partner.
    Keywords: Trust, Reciprocity
    JEL: C9
    Date: 2006–10
  31. By: Carlos Capistrán; Manuel Ramos Francia
    Abstract: We analyze inflation's persistence in the 1980-2006 period for the ten largest Latin American economies using univariate time-series techniques. Although the estimated degree of inflation persistence appears to be different across countries, for the region as a whole the persistence seems to be very high. However, the estimated degree of persistence falls in all countries once we permit structural breaks in the mean of inflation. The timing of these breaks coincides with shifts in the monetary policy regimes and is similar across countries. Regardless of the changes in the mean, the degree of persistence appears to be decreasing in the region, even though for some countries persistence does not seem to be changing.
    Keywords: Inflation, Inflation Persistence, Latin America, Monetary Policy, Multiple Breaks, Time Series
    JEL: E31 E42 C22
    Date: 2006–11
  32. By: Marika Karanassou; Hector Sala; Dennis Snower
    Abstract: This paper takes a new look at the long-run dynamics of inflation and unemployment in response to permanent changes in the growth rate of the money supply. We examine the Phillips curve from the perspective of what we call “frictional growth,” i.e. the interaction between money growth and nominal frictions. After presenting a theoretical model of this phenomenon, we construct an empirical model of the Spanish economy and, in this context, we evaluate the long-run inflation-unemployment tradeoff for Spain and examine how recent policy changes have affected it.
    Keywords: Inflation-unemployment tradeoff, Phillips curve, staggered wage contracts, nominal inertia, forward-looking expectations, monetary policy
    JEL: E2 E3 E4 E5 J3
    Date: 2007–06
  33. By: Alexius, Annika (Department of Economics); Holmlund, Bertil (Department of Economics)
    Abstract: A widely spread belief among economists is that monetary policy has relatively short-lived effects on real variables such as unemployment. Previous studies indicate that monetary policy affects the output gap only at business cycle frequencies, but the effects on unemployment may well be more persistent in countries with highly regulated labor markets. We study the Swedish experience of unemployment and monetary policy. Using a structural VAR we find that around 30 percent of the fluctuations in unemployment are caused by shocks to monetary policy. The effects are also quite persistent. In the preferred model, almost 30 percent of the maximum effect of a shock still remains after ten years.
    Keywords: Unemployment; Monetary policy; structural VARs
    JEL: E24 J60
    Date: 2007–06–18
  34. By: Huizinga, Harry; Schaling, Eric; van der Windt, Peter C
    Abstract: Both in theory and practice, capital controls and dual exchange rate systems can be part of a country's optimal tax policy. We first show how a dual exchange rate system can be interpreted as a tax (or subsidy) on international capital income. We show that a dual exchange rate system, with separate commercial and financial exchange rates, drives a wedge between the domestic and foreign returns on comparable assets. As a borrower, the government itself is a direct beneficiary. Secondly, based on data from South Africa, we present empirical evidence of this revenue implicit in a dual exchange rate system; a revenue that amounted to as much as 0.1 percent of GDP for the South African government. However, this paper also shows that both the capital controls and the dual exchange rate system in South Africa gave rise to many perverse unanticipated effects. The latter may render capital controls and dual exchange rate systems unattractive in the end and, thereby, provides a rationale for the recent trend in exchange rate liberalization and unification.
    Keywords: capital controls; Dual exchange rate systems; financial repression
    JEL: H21
    Date: 2007–06
  35. By: Erdem Basci; Ozgur Ozel; Cagri Sarikaya
    Date: 2007
  36. By: Halil Ibrahim Aydin
    Date: 2007
  37. By: Arnulfo Rodríguez; Pedro N. Rodríguez
    Abstract: The choice of monetary policy is the most important concern of central banks. However, this choice is always confronted, inter alia, with two relevant aspects of economic policy: parameter instability and model uncertainty. This paper deals with both types of uncertainty using a very specific class of models in an optimal control framework. For optimal policy rates series featuring the first two moments similar to those of the actual nominal interest rates in Mexico, we show that recursive thick modeling gives a better approximation than recursive thin modeling. We complement previous work by evaluating the usefulness of both recursive thick modeling and recursive thin modeling in terms of direction-of-change forecastability.
    Keywords: Macroeconomic policy, Model uncertainty, Optimal control, Monetary policy, Inflation targeting
    JEL: C61 E61
    Date: 2007–03
  38. By: Manuel Ramos Francia; Daniel Chiquiar; Antonio E. Noriega
    Abstract: When monetary policy has an explicit inflation target, observed inflation should be a stationary process. In countries where, for a variety of reasons, the determinants of inflation could lead it to follow a non-stationary process, the adoption of an inflation targeting framework should therefore induce a fundamental change in the stochastic process governing inflation. This paper studies the time series properties of Mexican inflation during 1995-2006, using recently developed techniques to detect a change in the persistence of economic time series. Consistent with the adoption of an inflation-targeting framework, the results suggest that inflation in Mexico seems to have switched from a nonstationary to a stationary process around the end of year 2000 or the beginning of 2001.
    Keywords: Inflation, Persistence change, Stationarity, Unit root tests, Unknown direction of change
    JEL: C12 C22 E31 E52 E58
    Date: 2007–01
  39. By: Manuel Ramos Francia; Alberto Torres García
    Abstract: The paper describes the dynamics of inflation in the Mexican economy from 1992 to 2006 using the New Phillips curve framework. The purpose is to identify key structural characteristics of the economy (structural parameters) that define the short-run dynamics of inflation. Results show that despite a previous history of high inflation, a hybrid version of the New Phillips curve fits the data well for the period 1992-2006. The short-run dynamics of inflation in Mexico are best described when both backward and forward looking components are considered. In addition, estimates for the sub-sample 1997-2006 show that as inflation has fallen, on average, prices remain fixed for a longer horizon, the fraction of firms that use a backward looking rule of thumb to set their price decreases and the forward looking component of the inflation process gains importance.
    Keywords: Inflation dynamics, Phillips Curve
    JEL: E31
    Date: 2006–12
  40. By: Albu, Lucian Liviu
    Abstract: Based on two Romanian household surveys, we analyse the structure of households' income by sources: main job, secondary job, and hidden activities. after conceptual clarification and explanation of the methodology we used, we estimate the size of informal economy, analyse the relationship between variables related to different types of income, and explore the dynamics of the informal economy. We find that the main participants in the informal economy are the poor people: the survival motive is dominant in the Romanian informal economy. We estimate that both in September 1996 and in July 2003 the income from the informal economy amounted to about 1/4 of the total household income (23.6% in 1996 and 22.7% in 2003, respectively). Also, we estimate the share of income from the informal economy in the cases of various categories of population (defined according to the dimension of the official declared income per person in the household). The extension of our analysis to the entire year using the household population structure by deciles suggests that the informal economy has increased, on average, by about 2-2.5% over the period 1995-2002.
    Keywords: informal economy, secondary income, informal income, decent income
    JEL: C61 D10 E62 H31 J22 O17 P36
    Date: 2007–06
  41. By: Michele FRATIANNI (Indiana University, Graduate School of Business Bloomington)
    Abstract: Karl Brunner (1916-1989) was, with Milton Friedman and Allan Meltzer, the leader of the monetarist revolution of the Sixties and the Seventies. His work on asset markets placed the credit market, along with the money market, at center stage and focused on monetary policy as a primary source of instability. With Allan Meltzer he challenged the validity of the Keynesian paradigm and proposed an alternative model of the economy where the transmission of monetary impulses to the economy did not depend exclusively on the interest sensitivity of the demand for money but on the relative interest elasticities of the asset markets as well on variations in wealth. An unexpected feature of the alternative model is that fiscal policy determines the price level. Brunner had a strong foundation in methodology and was an adherent of the empirical philosophy school. In addition to asset markets and macroeconomics, Krunner wrote extensively on the nature of man, the role of markets and institutions. Finally, Brunner launched and managed the Journal of Money, Credit and Banking , the Journal of Monetary Economics, the Konstanzer Seminar on Monetary Theory and Monetary Policy, the Interlaken Conference on Analysis and Ideology, the Carnegie-Rochester Conference Series on Public Policy, and the Shadow Open Market Committee (the last two with Allan Meltzer).
    Keywords: IS-LM model, credit market, monetarism, money supply
    JEL: B22 B31 E44 E51 E58
    Date: 2007–06

This nep-cba issue is ©2007 by Alexander Mihailov. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.